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Past legal fights seen bolstering SEC’s case for requiring climate disclosure

Agency silent on disclosure rule at opening 2022 meeting

SEC Chair Gary Gensler,
said in September the agency would be mandating climate disclosure by U.S. listed companies.
SEC Chair Gary Gensler, said in September the agency would be mandating climate disclosure by U.S. listed companies. (Bill Clark/CQ Roll Call file photo)

Corrected Feb. 1 | As the financial community waits for the Securities and Exchange Commission to unveil its highly anticipated climate disclosure rule, a pair of industry observers say the markets regulator will be able to ward off legal challenges about its authority to issue environmental policy.

Chair Gary Gensler said in September that the SEC would propose a rule mandating disclosure by U.S.-listed companies of so-called scope 1 and scope 2 greenhouse gas emissions from their own operations, as well as potentially include scope 3 emissions by suppliers anywhere in the world, and would do so by the end of 2021.

However, at the SEC’s open meeting Wednesday, the first of the year, commissioners took up no proposals from its Division of Corporation Finance, whose staff is working on the draft. An agency spokesperson didn’t respond to an emailed message seeking comment.

Investors focused on environmental, social and governance issues and progressives have urged the SEC to make companies report that information, while the U.S. Chamber of Commerce and other business groups have raised concerns about compliance costs. Some are suggesting a disclosure framework developed by the Task Force on Climate-related Financial Disclosures (TCFD) would be more suitable. The framework asks for scope 3 emissions if it is material to the business, although the TCFD strongly encourages all companies to disclose such data. 

The Financial Stability Board, an international body that monitors the global financial system, established the TCFD to develop recommendations for more effective climate-related disclosures.

BlackRock Inc., The Vanguard Group Inc. and State Street Global Advisors, ESG-focused asset managers with tens of trillions of dollars of investments, told companies they own stock in that they expect more disclosure starting this year on strategies to decarbonize their businesses and evaluate climate-related risks, or they will vote against board directors getting in the way of meaningful climate action.

“Demand from investors for timely, consistent, relevant data on climate-related issues is greater than ever before,” said Steven Bullock, managing director and global head of ESG, innovation and solutions at S&P Global Sustainable1.

“There is an expectation that companies are able to quantify and communicate the progress they’re making around quantifying their own greenhouse gas emissions baseline,” Bullock said in a webinar on ESG disclosure last week. “What they’re also interested in, of course, is the forward-looking elements as well. So how companies are managing, assessing and managing exposure to things like transition and physical risk.”

Business associations and Republican lawmakers have argued that the SEC would exceed its authority by mandating reporting requirements on climate risk, with several questioning how material climate disclosure would be in some cases.

“A niche industry of standard setters, third-party assessment providers, quasi-governmental bodies, nongovernmental organizations, and others have also greatly influenced the way companies share this information and whether it is included in SEC filings or in voluntary sustainability or corporate social responsibility reports,” the U.S. Chamber of Commerce said in a comment letter to the agency. “Public companies have had to navigate a complicated web of disclosure expectations, and little consensus exists regarding the role and authority that regulators such as the SEC have in mandating specific disclosure requirements related to climate change.”

However, courts have recognized the SEC’s authority to conduct such cost-benefit analysis, according to researchers at New York University School of Law.

“Notably, nothing in relevant case law suggests that the SEC must support every assumption in its cost-benefit analysis with empirical evidence, quantify all of the rule’s significant impacts, or demonstrate that aggregate quantified benefits outweigh aggregate quantified costs,” said Jack Lienke, regulatory policy director at NYU’s Institute for Policy Integrity, and legal fellow Alexander Song in a legal analysis released last week on a potential climate disclosure rule.

Previous legal cases, including ones with the same groups that oppose tough disclosure rules — suggest the SEC actually has a lower threshold to clear on its cost-benefit analysis.

“Instead, the Commission need only provide a reasoned explanation for its assumptions (taking into account available empirical evidence), make a good-faith effort to quantify impacts when possible and, when quantification is not possible, explain why,” Lienke and Song continued. “Furthermore, the Commission may reasonably rely on purely qualitative assessments of some effects to support a conclusion that a climate risk disclosure rule is cost-benefit justified.”

Previous decisions from the U.S. Court of Appeals for the District of Columbia Circuit in Washington have found that the SEC must assess the costs and benefits of any newly promulgated rule. If the agency fails to provide a strong analysis for a climate disclosure rule, that could create an opportunity for a court to throw it out as “an arbitrary and capricious use of the Commission’s rulemaking authority” under the Administrative Procedure Act, Lienke and Song said.

A 2005 ruling over whether the regulator’s rule incentivizing mutual funds to increase their boards’ independence violated the APA found that the SEC does not have to produce empirical data for every action it takes. However, in that case, the court found the regulator failed to quantify costs spurred from the new rule and sided with the U.S. Chamber of Commerce that the SEC’s lack of consideration for other policy alternatives violated the law.

A 2010 case between the SEC and American Equity Investment Life Insurance Co. over whether the regulator could claim that life insurance contracts could be securities subjected to federal regulation rather than state law ended with the D.C. Circuit Court finding that “the SEC cannot defensibly estimate a new rule’s likely economic consequences without first crafting a reasonable assessment of the economic status quo.”

The rulings from these cases and others establish a precedent that the SEC should estimate costs from proposed rulemaking to the best of its ability and consider reasonable policy alternatives, Lienke and Song said. They also acknowledged that the regulator may need to rely on some qualitative assessment of the potential benefits and that there are cases where the agency may face data limitations.

Climate disclosure cannot be completely vouched for until the SEC comes out with its proposal for such a rule that outlines the specific costs, benefits and other details, the researchers cautioned. 

“Regardless of the rule’s content, however, our analysis of the case law governing cost-benefit analysis reveals a number of practices that should increase the likelihood of the Commission’s economic analysis withstanding judicial scrutiny,” Lienke and Song said.


To protect any rule from litigation, the SEC would have to demonstrate a need for improved climate risk disclosure, identify the “economic status quo” of already-occurring costs with voluntary disclosure, call out regulatory alternatives and evaluate the costs and benefits, relative to the baseline, of the proposal and the main alternatives.

“In particular, the SEC should ensure that its baseline incorporates the costs to issuers of complying with voluntary disclosure pledges and existing disclosure regulations both in the United States and abroad, as well as the costs to investors of procuring climate risk information themselves,” they continued. “The SEC should also identify alternative policy designs that are practicable or obvious—especially if they have been raised by commentators and commissioners—and should provide a reasoned explanation if it chooses not to adopt them.”

The analysis strengthens arguments from institutional investors concerned about ESG issues and progressives that the U.S. financial system would benefit from mandated climate disclosure from public companies, rather than solely rely on a patchwork of voluntary disclosure. 

“If any such proposed rule is released by the SEC, then there have already been suggestions that a rule may well face a considerable amount of scrutiny,” Latham & Watkins partner Paul A. Davies said in a client note. “Notably, the public consultation saw multiple responses suggesting that climate disclosure rules will be challenged in court for being outside the SEC’s statutory authority.”

This report was corrected to accurately reflect the TFCD framework for reporting of scope 3 emissions.

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